Glossary

Accounts Payable

The amount of money yet to be paid based on due date specified by your supplier or vendor. It is preferable to have extended payment terms with its creditors or suppliers The longer the payment term you can have suppliers or creditors to agree to be paid the healthier will be your cash flow. However it is a balance that you need to maintain between having a long term agreement where suppliers can be fine with long payment terms and you being disciplined in paying as per extended payment terms. For instance, I have negotiated extended payment terms but have ensured that the suppliers are paid within those payment terms. So, even when the suppliers see this is an exception as and see that they dont have to spend time to chase for payments of outstanding amounts, they are fine to continue this arrangement for not one year but multiple years. A good measure of a company's management of accounts payable is to report the number of days of unpaid purchases reflected in the end-of-period balance:

Accounts Receivable

The amount of money owed by customers and not yet collected by the company. As mentioned in other the other blogs, there are supermarkets and retail stores the accounts receivable are negligible because you and I as retail consumers pay for purchase before stepping out . Sales are either paid for by cash of by credit card where the refund to the store is strictly measured and controlled. However, if you are in gaming and partnered with telecom companies or listing goods on e-commerce website or in construction industry, the Accounts Receivable can quickly go out of control due to poor credit management; due to offering generous credit terms; and invoicing errors, system issues for reconciling dues giving customers an excuse not to pay. Accounts Receivable are often measured in terms of Days Sales Outstanding.

Accruals

Some costs may not all have been paid for but the services may have been rendered and invoices may or may not have been received from suppliers. To ensure there is recording costs for the revenue you recognize in your financial statements, you or your team can work out an estimate of usage and accrue this amount before year/ quarter/ month end . ASSETS:CURRENT and FIXED Businesses need these to do business with. Airlines need planes; oil companies need refineries; silicon chip manufacturers need wafer fabrication clean rooms. The asset which is bought for use and provides benefits for longer period than a year is known as fixed asset. Businesses also need CURRENT ASSETS, those assets which are either in cash or near-cash form (bank balances, money deposited with someone and can be received in less than a year), or are inventories of raw materials and unsold goods, or accounts receivable. There are intangible assets (brand value, goodwill) which I will not over here in detail. These require more detailed coverage separately

Balance Sheet

Do you want to see the most simplistic manner what every company’s balance sheet structure looks like ? Here it is Note that the assets of the company are provided by two types of funds, those provided by shareholders and those provided by other people, notable banks, other lenders and creditors (see definition above of AccounPayable).

Book Value

Virtually all assets are carried in the balance sheet at book value, that is the cost of acquiring the assets on the day of purchase less an allowance for usage called depreciation. It is unlikely that book value represents the true value of the asset to the company but accountants like dealing in values they can prove rather with values generated by managerial guesswork. BOTTOMLINE = Profit or Loss A quick expression to refer to the profit available for distribution calculated in the profit and loss account (see later). The number forms the basis of many ratios which attempt to track financial performance. You will hear the expression "This saving (expenditure) will drop straight to the bottom line" meaning that the item referred to will have a direct impact. positive or negative on the profit available for distribution.

Capital Employed

This is the funding that one needs to run the company and can be traced to the balance sheet above. We can consider capital employed as being either: Total assets (fixed and current) less those liabilities which do not carry a commitment to pay interest, eg accounts payable; or Shareholders' Equity plus interest bearing liabilities. From a quick glance at the balance sheet layout above, we can see that these two approaches would result in same amount for capital employed. Why link shareholders' equity and interest bearing debt? Because the business has an obligation to pay out to both parties: shareholders receive dividends (there is no legal obligation to pay dividends but shareholders certainly expect them) and debt providers like banks to be paid interest on the debt provided to your company.

Capital Expenditure

All expenditure by a company must be accounted for either by writing off/debiting the item to the income statement or by capitalising the amount in the balance sheet. The decision is made on whether the item of spend has service/benefit potential beyond one accounting period. If it has, then the amount of cash outflow is placed on the balance sheet as a long-term asset. Net CASH FLOW Net Cash Flow is the subtraction of all cash payments out of a business from all cash receipts into the business over a given time frame. Unfortunately, cash flow is difficult to determine. It may not be accessible or the cash book is not updated regularly. Experts like accountants , therefore, have developed a method to convert data contained in the income statement and balance sheet into cash flow (indirect method): Start with bottom line profit after tax; Add or subtract those items which were deducted from, or added in, the income statement which had nothing to do with cash, eg: depreciation and provisions for bad debts. The resulting figure is an approximation for cash from operations. Deduct increase in inventory levels (or add decrease in inventory levels); by increasing inventory piles, a company is burning up valuable cash Deduct increase in accounts receivable (or add a decrease in accounts receivable); by allowing an increase in the amount of money owing by customers a company is preserving cash; Deduct decrease in accounts payable (or add an increase in accounts payable); by reducing the level of accounts payable a company has eroded its cash reserves; Deduct cash spent on capital assets less cash realized from the sale of existing assets. How can a company report accounting profit but show a negative cash flow?

Collection Period

Sometimes called Days Sales Outstanding (DSO). It is the number of days which a business takes to collect its sales revenue from customers and is described above in Accounts Receivable: Accounts Receivable/ (Sales/365days) If you change collection period , you will see the impact on how much runway you have in your Saacash dashboard for your business. Actual Collection period or Payment terms from your customers have a significant impact on your ability to operate and grow your business.

Cost Of Capital

Companies pay interest on money they borrow from banks and the money markets; they are also expected to pay a kind of rent to shareholders (we call this dividends) for using their money; it can be assumed that shareholders want a higher return then the banks because it is they who are taking the ultimate risk in a company's progress (if a company goes bust the shareholders are last in the queue for receiving the proceeds of sale of business ). The cost of capital is the weighted average of the various interest rates and imputed interest rates a company bears on outside money. Sometimes this is called Weighted Average Cost of Capital (WACC).

Current Assets

Assets that are either in cash or are expected to be turned into cash within the next twelve months eg. inventories of raw material, work-in-progress, and finished goods, and accounts receivable. Should large unsold inventories for “long time” be classified as “Assets”? I am happy to join in a panel discussion to debate this.

Current Liabilities

As in Current Assets we anticipate these liabilities, like short-term bank overdrafts, trade creditors and taxes payable, are to be paid in cash within the next twelve months. DEFERRED CHARGE or prepayment Some items of expenditure are paid towards the end of the year and refer in part to this year and in part to next year, for example annual subscriptions to trade bodies or journals. For this year's profit and loss account, the amount of the payment referring to next year is deducted from the amount referring to this year and included in the balance sheet as a current asset called deferred charge or prepayment.

Depreciation

An assessment of the consumption of the value of an asset throughout the year, charged to profit and loss account and deducted from the asset value in the balance sheet. This is a matter of managerial judgement since no one can be certain exactly by how much an asset has reduced in value. So often companies set rules for different classes of assets eg. an airline would select 25 years for its long-haul fleet; a silicon chip manufacturer would select l 0 years for its cleanroom facility; most organisations select three years for their desktops The amount selected has a direct, negative influence on bottom line or profits.

Dividend Yield

The dividend paid by a company, say £0.50 per share, expressed as a percentage of the current market value, say £10.00, ie. 5%. If the share price should climb to say £15.00, and if the investment community believes that 5% is the "going rate" for dividend yield, the company will feel obliged to raise its dividend to £0.75 to keep in line with market expectation.

Economic Value Added (Eva)

Operating profit of a business, or part of a business, less a charge for the use of the assets employed to generate the profit. This measure of profitability instills a sharper responsibility in the assets tied up (which could be used more profitably elsewhere in the company). The charge for capital is usually based on the company's cost of capital (see above). If the outcome of the calculation is a positive number ( EVA is a number, not a percentage), the business has created shareholder value; if it is a negative number, the business has eroded shareholder value.

Fixed Asset

Long-life assets that a company possesses so as to carry on its trade. A company uses these assets and does not usually intend to sell them in the normal course of business. Their ability to provide service potential in the future diminishes over time and this is called depreciation (see above and see Net Fixed Asset) GROWTH (relevant only for Revenue or for bottom line as well?) A company is said to be growing when its sales revenue climbs year-on-year. Such a growth may have a negative effect on cash flow because the sales growth needs the support of increased inventories and increased accounts receivable; both burn up cash which the company may not possess. In the extreme, growth can be very damaging for the liquidity of a company unless it can simultaneously work on a reduction of its working capital base (see later).

Internal Rate Of Return (Irr)

A term encountered in Investment Appraisal ; the earning power of a project over its life, that is the rate of interest required to discount the project's future net cash flows to zero. In broad terms, a proposed project is acceptable when its IRR is greater than the hurdle rate required by the company. INVENTORY (sometimes referred to as Stocks) Comprises three major components: Raw Materials, Work-in-progress and Finished Goods. In manufacturing and trading companies, these numbers can be very large and therefore tie up a lot of cash which could be put to better use. In theory a company should have only enough inventory to service the next process, that is only enough raw materials so that the production process is not slowed down by a stock-out; only enough work in-progress to keep a smooth flow into finished goods; only enough finished goods to satisfy customer demand.

Inventory Turnover

An indicator of how efficient a company manages its inventory, defined as Cost of Sales divided by Inventory. The higher the turnover figure, the lower the stock levels. Of course, the turnover ratio will differ depending on the time of year; in industries with seasonal products, one can expect the figure to change dramatically during a twelve-month window.

C

Whether Net Present Value >Zero or not ? is part of Investment feasibility Future cash flows emanating from the project are discounted to today's values by using the company's hurdle rate (usually its cost of capital). If the Net Present Value is greater than zero, that is the discounted sum of future cash flows exceed the initial investment required, the project exceeds the cost of capital hurdle and will therefore add shareholder value. A technique called Internal Rate of Return (see above) measures the exact earning power of the project. LEVERAGE (sometimes called Gearing) A company's assets are funded from two sources, shareholders and people other than shareholders such as banks and creditors. The Leverage ratio measures the relationship between these two groups. Like all other ratios one can use many possible combinations: total debt (ie. all liabilities on the balance sheet other than shareholders' equity) as a percentage of total assets, or total assets divided by shareholders' equity, or interest-bearing debt as a percentage of shareholders' equity. A highly geared company is one with more interest-bearing debt than equity. This debt needs to be serviced and can drain the company of available profits, leaving nothing for shareholders.

Liabilities

These are all items which the company must pay sooner or later. Current liabilities, such as accounts payable or short-term overdrafts from banks, will be paid off within the next twelve months; long-term liabilities, such as debentures and term loans will be redeemed on fixed dates in the years to come. Analysts are keen to separate a company's liabilities not by redemption date but by whether or not interest is paid on them.

Liquidity

It can be measured by dividing current assets by current liabilities to reflect the cover for the eventuality, admittedly unlikely, of having to settle with one's creditors all at once. Additionally, this ratio can be adapted to one called the quick ratio which strips out inventory from current assets and dividing by current liabilities; this recognises that inventories are the least realizable of current assets should the current liabilities press for immediate payment.

Market Capitalisation

One of the most frequently used measures of company size: the number of shares in issue multiplied by current market value per share. Since this is linked to the daily share price, the company's "market cap" capitalization can vary every second, daily, even hourly.You see the recent stock prices in April 2025 for Nvidia , Tesla? They have changed their market capitalization in hours and in less than a day! MATCHING of Accruals or Depreciation A fundamental accounting concept closely related to accruals (see above). For reporting to shareholders, a company seeks to match against the sales for the year the costs of producing these sales. This explains, therefore, why an asset purchased in one year but which will benefit the organisation for say ten years, will not all be set off against this year's sales; only one tenth of its cost, called depreciation, will be matched this year.

Net Assets

Total assets less Current Liabilities less all Long-term debt and provisions (see below); in other words Net Assets= Shareholders' Equity. NET FIXED ASSETS (also called Written Down Value) Fixed Assets less Accumulated Depreciation provided to date. Over the lifetime of the asset, the figure for Net Fixed Asset will diminish as the Accumulated Depreciation increases. At the end of the period of years selected for write off balance will be zero. The company, of course, could still be using this asset after this date to generate revenues. Following the principle of Matching, the sales from these later years will not be burdened by matching depreciation and the company will therefore show slightly higher profits.

Net Operating Profit

The difference between Sales from activities and the costs associated with these activities. Specifically, net operating profit omits sales from divestments of assets or investments (which are not "operations") and costs associated with one-off restructuring charges and financial costs (which are not "operations"). Analysts home in on net operating profit to gain an idea of how well the fundamentals of the business are performing. You can read the Cash flow: Measurement and Understanding for more details on operating and other activities

Net Present Value (Npv)

NPV is the difference between the proposed investment in a project expressed in today's money and the sum of the proposed net cash inflows generated by the investment discounted back to today's value at the company's hurdle rate for the relevant investment. If NPV>Zero, the project will create shareholder value; if NPV Back to top ↑

Pe Ratio

The full name is price earnings ratio. It is calculated by dividing the market value of a company's share by the earnings per share. Interpreted literally, it is equal to the number of years' earnings represented in the current share price. A high PE indicates that market confidence in the future performance of the company has moved beyond the current ability of the company to generate earnings. A sector's average PE is sometimes used to help value an unquoted company: Current earnings of the company multiplied by the company's sector's average PE. PROFIT & LOSS ACCOUNT (or Income Statement) One of the three main financial statements produced by a company (the others being the balance sheet and the cash flow statement). It is a report, in financial terms, of the company's trading activities during the past twelve months (or any lesser period of time) which captures the sales revenue and the costs incurred in the sales process. Other costs such as servicing the company's debt, the tax payable on the profit generated and one-off hits such as restructuring are also embedded in this statement. An irritating feature of many companies' P&Ls is the different definitions of profit used on the face of the same statement: Net Operating Profit; Profit before Tax; Profit after tax; Profit attributable to Shareholders; Retained Profit. Each of these measures a company's economic performance at a different point in the annual financial cycle.

Provisions

At the end of a year a company may recognise its potential liability to meet certain payments or incur specific losses sometime in the foreseeable future. Such items may be potential bad debts (ie. accounts receivable which will not be recovered from customers whose businesses are in trouble), or settlement of litigation surrounding product quality or environmental damage. If the company can quantify such items and believes them to be reasonably certain, it will make a charge for them in the P&L Account for the year just finishing to satisfy the matching principle of accounting and set up the same amount as a provision (a liability) in the balance sheet. Where either the amount of the future payment, or the timing, or indeed the likelihood of occurrence is so uncertain, no provision will be made in the P&L and Balance Sheet but a note will be made in annual report about the contingent liability the company thinks it has. Experienced investors scrutinize in detail such contingent liabilities.

Return On Capital Employed (Roce)

A measure of the profitability of a company taking into account the capital funds employed to generate the profit: profit (defined differently by different companies but usually operating profit) divided by capital employed (shareholders' equity plus long term debt). Some companies use Return on Average Capital Employed (ROACE) as a measure to reflect that a year's operating profits are generated using not just the capital employed at the beginning of the year but also the incremental growth in capital employed throughout the year. If a company fails to earn a ROCE equal to, or greater than its Cost of Capital (see above), it is eroding shareholder value.

Return On Equity

Profit (defined differently by different companies but usually profit attributable to shareholders) divided by shareholders' equity. It should be remembered that a shareholder expects not only a revenue return as described here but also capital growth in the share.

Revenues

Another word for Sales or Turnover. Revenues, sometimes more accurately defined as Net Operating Revenues, form the top line of a profit and loss account. They include two components: cash received from customers for sales made during the year; and amounts invoiced to customers for goods and services provided towards the end of the year but which have not yet been paid for. Revenues do not include cash received during the year for sales invoiced and recognized as Revenues last year. Where an industry is used by government to collect a special tax on sales, eg. Value Added Tax, Petroleum Revenue Tax, Excise Duty on alcohol and tobacco, these taxes are normally deducted before the Net Revenues are disclosed in the P&L account.

Taxes Payable

Whereas individual employees pay income tax on their salaries each month or quarter, companies pay tax on their profits many months, sometimes years, after they have been earned. This is due to the complexity of agreeing the precise liability with the fiscal authorities. Since the amount of the liability is often large, companies sometimes highlight the sum separately in Current Liabilities.

Working Capital

Current Assets less Current Liabilities. This is sometimes referred to as a company's life blood, the resources needed to keep servicing sales and production. Where companies are poor at controlling their inventory levels and/or slow at collecting their accounts receivable and/or overly zealous at paying their accounts payable, the level of working capital can rise to worrying levels. This is sometimes referred to a company overtrading; that is its sales, and therefore its production, are running ahead of its ability to generate sufficient cash to fuel the growth.

Finance & Accounting Glossary

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